Bad weather around the world hits UK companies

Gritit, a British gritting company, offers clients “frost day” certificates, weather derivatives arranged with Zurich specialist Celsius Pro. For a premium, customers receive an automatic payout if predefined weather criteria, in this case a certain number of frost days, are exceeded.

The product is primarily aimed at local councils but is also used by construction companies and retailers that have to cover winter service costs. Jason Petsch, Gritit’s commercial director, says weather risk management is the next logical step for any organisation making contingency plans.

“There is huge potential given the state of public finances and any business, whether public or private, that does not have a serious look at this… well, I won’t say I told you so,” he says.

Growing market

The ultimate aim of hedging out the risk is to know that the contract will compensate for at least some of weather-related losses. Kenny Tang, chief executive of Oxbridge Weather Capital, says there is a clear need for businesses directly affected by weather to consider hedging the financial impact. Research by PwC for the Weather Risk Management Association, a trade body, found that retailers made up only three percent of all weather-hedging contracts set up in 2009 compared with 59 percent for energy companies - who have been hiking their prices this winter using the excuse of the risk in spot energy prices, which is in turn affected by the weather.

Stephen Doherty, chief executive of Speedwell Weather, which provides data and forecasts for insurers and corporates, believes weather risk is a growth market. “We have been involved in this market for 10 years and it has grown steadily, but I suspect that it has further to go. It is clear that it could be more widely used,” he says.

Tomlinson says that while energy businesses are heavy users, the agricultural and construction sectors are less aware of the potential for weather risk management. Petsch adds that government spending cuts will make it more important that councils act to reduce the risk of overspending because of poor weather and, after the past couple of winters, manage the expectation that more roads will be gritted if it snows.

Doherty explains that many of the difficulties impeding the early growth of the market, such as having accessible data on weather trends, have been removed, so there are enough participants offering types of product to make competitive pricing. But the biggest impetus behind future uptake of weather-risk products may be climate change, evidence of which can already be seen in the glut of severe weather events such as heavy snow in the UK, devastating floods in Pakistan and crop-devastating fires in Russia due to unprecedented drought.

Climate risks

Tang, author of the book Weather Risk Management, says that climate change and its impacts will unfold over the next few decades. “What is very clear is that severe weather events of the sort we have just seen in the UK, Brazil, Pakistan, Australia and elsewhere are likely to happen on a more frequent basis,” he says.

Some of this is apparent in the impact the Australian floods had on coal prices. Spot coking coal prices rose as high as $300 (£186) a tonne after January’s floods, a rise of 33 percent which also affected British companies such as mining giant Rio Tinto.

Poor weather has also contributed to a surge in food prices, which have risen to their highest average level on record, outstripping the previous peak in 2008, according to the United Nations Food and Agricultural Organisation.

Abah Ofon, commodities analyst at Standard Chartered, says the recent commodities price rally is mainly due to supply shocks, “in particular adverse global weather conditions. In the short term, price volatility will be significant and supply shocks will amplify price volatility”.

Kona Haque, commodities analyst at Macquarie, expects wheat prices to rise again this year. “A continuation of adverse weather hampering any production recovery would cause prices to surge further to the upside,” she says.

Tang adds that businesses must realise that weather risk is just as important as interest rate and exchange rate risk in its effect on business revenue.

“Next time a severe weather event affects your business operations somewhere around the world with significant financial implications for your company, you have been warned,” he says. “The weather can no longer be used as an excuse.”